How Can You Put Your Suppliers Under the “ESG Microscope”? (Part I)

This article is part one of a two-part series on how to analyze and assess the sustainability and ESG performance of your suppliers. 

It would be difficult to overstate the rise of the ESG framework over the past decade. After being initially coined in 2005, the acronym—which stands for environmental, social, and governance—has gained traction throughout the corporate world, summarily supplanting the primacy of its predecessor, CSR (corporate social responsibility), and spurring meaningful action from many large businesses. Today, over 90% of the publicly traded companies in the S&P 500 Index engage in some type of ESG reporting, and corporate spending on ESG-related services is expected to surge to north of $65 billion by 2027 (representing a CAGR of nearly 15% over the next several years). 

As the prominence and clout of the ESG framework has continued to grow this decade, its frontiers have gradually expanded. Where it had long been sufficient for organizations to focus on their own ESG performance and the extent of their adherence to its three central pillars, the scope of expectations is beginning to encompass the sustainability practices of the companies they do business with as well. In other words, firms are starting to be held responsible for the actions of their partners—including suppliers, manufacturers, and subtier vendors—as concepts like supply chain due diligence become the animating forces behind new regulations and evolving definitions of accountability. 

The upshot of ESG’s expanding parameters for businesses that source from complex supply chains is that the idea of “guilty by association” may grow into an increasingly prevalent threat. Even those firms whose own ESG house is in impeccable order could face a range of consequences for working with suppliers seen as unethical or exploitative—a benchmark whose objective “fairness,” which may be up for debate, is not nearly as important as its mass adoption as a new corporate standard. 

Why Your Suppliers’ ESG Compliance Should Matter to You 

For businesses still in the process of adopting ESG practices and investing in sustainability ratings—which are now costing firms hundreds of thousands of dollars annually—the notion of allocating part of their collective bandwidth to the ESG compliance of their suppliers may sound overwhelming, even a tad excessive. There are at least two major reasons, however, why this should become an area of focus for companies looking to build resilience and ESG risk management into their operations.

First, a raft of emerging regulations are going to start holding organizations responsible for the environmental, social, and governance practices of businesses operating throughout their supply chains. These new laws, which include the Corporate Sustainability Due Diligence Directive (CSDDD), the Corporate Sustainability Reporting Directive (CSRD), and the German Supply Chain Due Diligence Act (SCDDA), all impose some degree of obligations on businesses to carry out supply chain due diligence and report on ESG risks embedded in their value chains. 

The CSDDD, for example, which will begin a phased implementation starting in 2027, requires that in-scope businesses identify, assess, and mitigate adverse impacts throughout their supply chains. The language of the directive specifically states that organizations are responsible for implementing mitigation measures, monitoring the efficacy of those measures over time, and reporting on their progress annually. The CSDDD and other regulations in its ascendant cohort are effectively requiring businesses to vet the suppliers and manufacturers that constitute their supply chains, obtaining and disclosing information that could be perceived as compromising, unethical, or otherwise antithetical to the ESG framework. 

One of the overarching objectives of directives like these, it would seem, is to establish standards for transparency across supply chains that force suppliers to improve their behavior or compel their customers to move their sourcing elsewhere. In either case, these new laws are going to significantly increase pressure on companies to ascertain the ESG performance and accompanying risk of their supply chain partners. 

The second reason has potentially even more severe consequences, and it relates back to the premise of guilt by association mentioned earlier. In this new era of exacting sustainability regulations, ubiquitous ESG ratings, and a growing emphasis on transparency, both direct suppliers and subtier manufacturers are going to be under more scrutiny than ever before. Because of this, more companies are going to find themselves sanctioned by governments and exposed by watchdog organizations for unethical practices that run counter to ESG’s core principles. While these developments will undoubtedly impact the standing and business relationships of the companies in the crosshairs, the disclosures will also reverberate in more indirect ways.

In the coming years, organizations found to be working with suppliers who are exploiting workers, contributing to biodiversity loss, or illegally disposing of hazardous waste will make themselves vulnerable to grave reputational harm. The congressional investigation that concluded this past May offers an illustrative case in point. A Senate inquiry found that BMW and Jaguar Land Rover were importing car components made by a Chinese supplier banned by the Uyghur Forced Labor Prevention Act (UFLPA)—and continued to do so even after the government warned them that they were sourcing from a sanctioned entity. 

The revelation represented a serious scandal for the two automakers, and spurred the Senate to expand its investigation into BMW’s relationship with Chinese manufacturers sanctioned by the U.S. government. Regardless of the ultimate legal outcome of these violations, surfacing these sourcing practices to the public leaves a moral taint on these multibillion-dollar firms, compromising their reputations in ways that will take some time to overcome. 

By taking a proactive approach to evaluating the ESG compliance of their vendors, businesses can ensure that they insulate themselves from such fates. Firms that thoroughly vet suppliers for sustainability concerns are bolstering their ESG risk management system and dramatically reducing the chances of either violating government directives or incurring serious reputational harm. 

Key Strategies for Assessing Supplier ESG Compliance

Companies interested in carrying out ESG risk management for the manufacturers they source from have a slew of techniques and resources to draw from. These strategies can help firms preemptively mitigate any potential fallout from their ties to organizations who fail to adhere to the ESG framework. 

Consult ESG Ratings Databases

While not all businesses are aware of it, there are a number of public disclosure platforms that issue ESG ratings for tens of thousands of companies all over the world. The Carbon Disclosure Project, now generally referred to as CDP, is perhaps the best-known of these platforms. CDP is a nongovernmental organization that runs a database where over 23,000 global companies disclose various environmental impacts. Users can create a free account and access comprehensive data on a manufacturer’s scope 1 and scope 2 carbon emissions, water usage, and climate-related risks, among other critical ESG data. 

Databases like CDP provide companies with a valuable starting point for determining the sustainability performance and ecological impact of a given supplier. While the platform is predominantly focused on the environmental pillar of the ESG framework, the grades CDP assesses to companies can be a useful indicator of their diligence in the areas of social and governance as well. 

Issue ESG-Focused Supplier Questionnaires 

Despite advancements in technology and the advent of other disclosure mechanisms, supplier questionnaires remain an important means of obtaining information from vendors. Companies can utilize a number of questionnaires focused on sustainability and ESG risk made publicly available by universities, nonprofit organizations, and financial institutions. These surveys include questions related to a supplier’s greenhouse gas emissions, waste management, internal codes of conduct, and many other relevant ESG topics. 

While there often isn’t a lot of accountability attached to ESG questionnaires—in many cases, they rely on the good faith of the suppliers—they can still function as a useful way to screen prospective suppliers and filter out companies with a negligent approach to sustainability. To make the questionnaires more dynamic and responsive, firms should have formalized methods for following up with suppliers based on the information they provide. For example, if some of the vendor’s responses don’t meet the internal ESG standards of the company issuing the survey, team members can reach out to the manufacturer to explore ways of modifying their practices to enhance ESG compliance. 

Utilize a Supply Chain Risk Management Platform 

Despite the myriad resources at their disposal, some businesses simply don’t have the operational bandwidth to vet their suppliers’ ESG risk with the level of precision and fastidiousness that they’d like. In scenarios like these, companies can reap appreciable benefits from bringing on a supply chain risk management (SCRM) platform to aid them in their ESG assessments. The best SCRM software offers detailed profiles of thousands of suppliers all over the world, including ESG risk evaluations and detailed compliance information. Industry-leading tools like Z2Data, meanwhile, can go even further by conducting independent surveys of specific suppliers to analyze compliance and ESG risk. 

Assessing ESG Compliance: a Growing Imperative 

There was a time not that long ago when companies weren’t particularly interested in the internal operations and sustainability practices of their suppliers. So long as manufacturers delivered product on time and in a cost-effective fashion, opacity was often accepted as the norm. But the exigencies of the regulatory landscape have evolved significantly over the past decade, and organizations now have a responsibility—perhaps even a business imperative—to know who it is they’re getting into business with. By understanding the ESG performance and corresponding risk of their suppliers, firms can proactively protect themselves from compliance issues and reputational threats, fostering resilient supply chains less prone to injurious disruptions. 

While resources like ESG databases and vendor surveys can help firms understand the broad outlines of their suppliers’ sustainability programs and infrastructure, they often fall short of providing a truly comprehensive picture. Judicious organizations with an eye toward thriving over the next decade may want to combine these instruments with a dedicated SCRM tool. ESG compliance software is able to draw from large databases and expert research teams to gather and consolidate critical sustainability data on thousands of manufacturers all over the globe. With the help of an effective risk management platform, companies can parse in-depth, actionable information on regulatory compliance, past legal issues related to the social and governance pillars, and the climate vulnerability of a vendor’s manufacturing locations. 

To learn more about Z2Data and the array of functionalities it provides that expand and enhance ESG visibility, schedule a free demo with one of our product experts.